BRICs Can't Keep The Global Economy Afloat

A year ago, economic analysts were giddy with optimism about the
prospects for economic growth in the developing world.

In contrast to the United States and Europe, where the growth
outlook looked weak at best, emerging markets were expected to
sustain their strong performance from the decade preceding the
global financial crisis, and thus become the engine of the global
economy.

Economists at Citigroup, for example, boldly concluded that
circumstances had never been this conducive to broad, sustained
growth around the world, and projected rapidly rising global
output until 2050, led by developing countries in Asia and
Africa.

The accounting and consulting firm PwC predicted that per
capita GDP growth in China, India, and Nigeria would exceed
4.5% well into the middle of the century. The consulting firm
McKinsey & Company christened Africa, long synonymous with
economic failure, the land of “lions on the move.”

Today, such talk has been displaced by concern about what The
Economist calls “the great slowdown.” Recent economic data
in China, India, Brazil, and Turkey point to the weakest growth
performance in these countries in years. Optimism has given way
to doubt.

Of course, just as it was inappropriate to extrapolate from the
previous decade of strong growth, one should not read too much
into short-term fluctuations. Nevertheless, there are strong
reasons to believe that rapid growth will prove the exception
rather than the rule in the decades ahead.

To see why, we need to understand how “growth
miracles” are made. Except for a handful of small countries that
benefited from natural-resource bonanzas, all of the successful
economies of the last six decades owe their growth to rapid
industrialization. If there is one thing that everyone agrees on
about the East Asian recipe, it is that Japan, South Korea,
Singapore, Taiwan, and of course China all were exceptionally
good at moving their labor from the countryside (or informal
activities) to organized manufacturing. Earlier cases of
successful economic catch-up, such as the US or Germany, were no
different.

Manufacturing enables rapid catch-up because it is relatively
easy to copy and implement foreign production technologies, even
in poor countries that suffer from multiple disadvantages.
Remarkably, my research shows that manufacturing industries tend
to close the gap with the technology frontier at the rate of
about 3% per year regardless of policies, institutions, or
geography. Consequently, countries that are able to transform
farmers into factory workers reap a huge growth bonus.

To be sure, some modern service activities are capable of
productivity convergence as well. But most high-productivity
services require a wide array of skills and institutional
capabilities that developing economies accumulate only gradually.
A poor country can easily compete with Sweden in a wide range of
manufactures; but it takes many decades, if not centuries, to
catch up with Sweden’s institutions.

Consider India, which demonstrates the limitations of relying on
services rather than industry in the early stages of development.
The country has developed remarkable strengths in IT services,
such as software and call centers. But the bulk of the Indian
labor force lacks the skills and education to be absorbed into
such sectors. In East Asia, unskilled workers were put to work in
urban factories, making several times what they earned in the
countryside. In India, they remain on the land or move to petty
services where their productivity is not much higher.

Successful long-term development therefore requires a two-pronged
push. It requires an industrialization drive, accompanied by the
steady accumulation of human capital and institutional
capabilities to sustain services-driven growth once
industrialization reaches its limits. Without the
industrialization drive, economic takeoff becomes quite
difficult. Without sustained investments in human capital and
institution-building, growth is condemned to peter out.

But this time-tested recipe has become a lot less effective these
days, owing to changes in manufacturing technologies and the
global context. First, technological advances have rendered
manufacturing much more skill- and capital-intensive than it was
in the past, even at the low-quality end of the spectrum. As a
result, the capacity of manufacturing to absorb labor has become
much more limited. It will be impossible for the next generation
of industrializing countries to move 25% or more of their
workforce into manufacturing, as East Asian economies did.

Second, globalization in general, and the rise of China in
particular, has greatly increased competition on world markets,
making it difficult for newcomers to make space for themselves.
Although Chinese labor is becoming more expensive, China remains
a formidable competitor for any country contemplating entry into
manufactures.

Moreover, rich countries are unlikely to be as permissive towards
industrialization policies as they were in the past. Policymakers
in the industrial core looked the other way as rapidly growing
East Asian countries acquired Western technologies and industrial
capabilities through unorthodox policies such as subsidies, local
content requirements, reverse engineering, and currency
undervaluation. Core countries also kept their domestic markets
open, allowing East Asian countries to export freely the
manufactured products that resulted.

Now, however, as rich countries struggle under the combined
weight of high debt, low growth, unemployment, and inequality,
they will apply greater pressure on developing nations to abide
by World Trade Organization rules, which narrow the space for
industrial subsidies. Currency undervaluation à la China will not
go unnoticed. Protectionism, even if not in overt form, will be
politically difficult to resist.

Manufacturing industries will remain poor countries’ “escalator
industries,” but the escalator will neither move as rapidly, nor
go as high. Growth will need to rely to a much greater extent on
sustained improvements in human capital, institutions, and
governance. And that means that growth will remain slow and
difficult at best.

This article was originally published by Project Syndicate. For more from Project Syndicate, visit their new Web site, and follow them on Twitter orFacebook.